Paying from cash flow is the process of setting aside a certain amount of money each week or month from a steady income source and applying it toward your child’s private school or college tuition bill. The most common income source is your paycheck, but rental income or child support (among other things) can be a steady income source as well. Paying from cash flow differs from increasing your household cash flow.
Tip: Though most schools bill twice per year (once for the fall semester and once for the spring semester), others now give parents the option of paying quarterly or in 12 equal installments, an arrangement some parents prefer. Check with your child’s school to inquire about different payment options.
Strengths of Paying from Cash Flow
Accessibility of funds: Paying tuition bills from cash flow is probably the simplest way to come up with the necessary funds. There are no applications, no waiting periods, and no analysis of what investments would be best to liquidate. You simply earmark a portion of your paycheck for education expenses. On a related note, grandparents (or any other generous relative) can pay your child’s college tuition directly to the college without incurring any federal gift tax by making a tax-free gift of tuition. To qualify for the tax exclusion, the payment must be for tuition only and made directly to the college; you cannot give the money to a student or to a trust on behalf of the student.
Your savings, investments, and other assets (like retirement accounts) remain fully, or mostly, intact: If you have a steady and adequate cash flow, you may be able to cover a considerable portion of your child’s private school or college expenses without having to dip into your savings, investments, or other assets, such as retirement accounts or cash value life insurance. Most financial planners recommend avoiding the use of retirement funds to pay for college expenses, if at all possible.
You will need to borrow less money: The more school expenses you pay directly from cash flow, the less money you (or your child, if college age) will need to borrow. Borrowing increases the cost of your child’s private school or college education because you must pay back principal and accrued interest. If you put part of your child’s tuition bill on your credit card (a common practice), think of the interest payments you will owe. By contrast, when you pay from cash flow, you avoid interest payments.
Tradeoffs of Paying from Cash Flow
You may have to make sacrifices in other areas: The part of your paycheck you are now using for education expenses may mean an end to home remodeling projects, nice vacations, and three-times-a-week restaurant visits. The fact is that paying for a child’s education, especially college, may require sacrifices.
Outflow of cash may make it difficult to invest for other goals: Not only might you have to sacrifice your current standard of living, but a large outflow of cash for education expenses may leave you with less to invest toward other goals, whether they be tropical vacations or a secure retirement.
How do you know if this strategy is right for you?
As with savings and investments, most parents probably pay some of their child’s current education bills out of cash flow. If you can afford the loss of this discretionary monthly income, paying from cash flow is simple and reliable (assuming a steady income source). Every penny paid from cash flow is one less penny that will need to be paid from other savings, investments, and retirement accounts, or that will need to be borrowed.
The question of how much cash flow drain a family can absorb is an individual one. It depends on a wide variety of factors, including the overall amount of family savings and investments, the number of children in the family, present income needs, any anticipated significant future income needs, current lifestyle, and the reliability of the cash flow source (e.g., company layoffs, poor rental market). After an evaluation of these and other factors, parents can decide how much money, if any, they want to take from their cash flow and apply to their child’s education expenses.
If you have questions, contact the Experts at Henssler Financial:
- Experts Request Form
- Email: experts@henssler.com
- Phone: 770-429-9166
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